You may have observed a ” funding rate ” among other indicators with regard to crypto futures when trading long or short on an exchange. Although there are numerous measures to measure volume, volatility, and other factors, the majority of them have no bearing on your position.

Funding rates, on the other hand, frequently go unnoticed despite having a very meaningful impact on trading. Here, we examine perpetual swaps, financing rates, and ways to profit from them in every market situation.

Knowledge of Perpetual Futures

Perpetual futures (perps) may be a difficult idea to understand if you are used to conventional finance. They were initially employed by Bitmex for the bitcoin market, allowing traders to go long or short for an infinite amount of time.

In a market that was open around-the-clock, this enabled more access to leverage and deeper liquidity, but it also had drawbacks.

Traditionally, as a contract neared its expiration, its price would inevitably converge with the current price. But in order to accomplish this with impunity, another mechanism is needed.

What is Funding Rate?

Funding rates are regular payments made to traders based on the difference between spot prices and perpetual contract markets, either to traders who are long or short. Consequently, traders will either pay or get funds based on open positions.

Cryptocurrency funding rates stop both markets’ prices from permanently diverging. Every eight hours, Binance Futures updates it numerous times during the day.

Funding rates (highlighted in red) and a countdown to the next funding (highlighted in white) are shown as follows on  Binance Futures platform:

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The financing rate is determined by what?

The interest rate and the premium are the two parts that make up the funding rate.

Except for contracts like BNBUSDT and BNBBUSD, whose interest rates are 0%, Binance Futures’ interest rate is set at 0.03% per day (0.01% per funding interval). The premium, meantime, fluctuates based on the cost distinction between the perpetual contract and mark price.

The price between the perpetual contract and the mark price may vary during times of extreme volatility. When this occurs, the premium changes in line with it.

High premiums result from wide spreads. On the other hand, a low premium denotes a small difference between the two prices.

The price of the perpetual contract is greater than the mark price when the funding rate is positive, making long-side traders pay for short-side bets. A negative funding rate, on the other hand, signifies that perpetual prices are below the mark price and that short positions are making up for long ones.

Peer-to-peer funding rates are paid. for example Binance does not charge any fees for funding rates because they are conducted directly between users.

How does funding rate has impact on traders?

Financing rates may significantly affect one’s earnings and losses because funding calculations take the amount of leverage employed into account. Even in low volatility markets, a trader using excessive leverage could incur losses and be liquidated.

However, financing collection can be quite profitable, particularly in range-bound markets.

As a result, traders can create trading plans to earn even in low-volatility markets by taking advantage of financing rates.

Funding rates are essentially intended to induce traders to enter into positions that maintain perpetual contract prices in line with spot markets.

Why are financing rates utilized, and why are they important to know about?

As indicated, there must be a means to make perpetual markets and spot markets converge because financing rates have no expiration date. Naturally, this adjustment must occur frequently. On Poloniex, the cadence at which funding rates are computed and funds are paid happens every 8 hours, and every time this happens, traders either receive or pay funding.

Funding rates may or may not have a significant impact on a trader, depending on the level of leverage used. In truth, a trader’s position may get liquidated while paying for funding based on their leverage. Funding rates are another indicator of trader emotion and can be used to guide trading decisions.

How Exchanges calculate funding rates usually?

So how exactly does the funding rate “shake out”? Let’s look at this:

We’ll start by discussing how much funding a trader might give or receive in a particular situation. Funding = Position Value * Funding Rate is the formula to use.

Note: The Mark Price at financing timestamp determines Position Value.

The Mark Price at the funding timestamp is 8,000 USDT, with the current Funding Rate at 0.01%, and Trader A is holding a long position of 10 lots BTC/USDTPERP.

Position Value = 8,000 * 10 = 80,000 USDT

Funding = 80,000 * 0.01％= 8 USDT

Because of the positive Funding Rate, longs compensate shorts. As a result, Trader A must pay a funding charge of 8 USDT, while Trader B will earn 8 USDT for shorting positions of the same amount. If trader A closes the position before the Funding timestamp, then they do not need to pay the funding charge.

Summary of funding rate

The market for perpetual futures places a lot of importance on cryptocurrency funding rates. To ensure that contract prices are always in line with the index, the majority of crypto-derivatives exchanges use a funding rate method. These rates are set by market forces and change when asset prices move in either a bullish or bearish direction.

Furthermore, crypto financing rates vary between exchanges; on some exchanges, these rates continue to be very high. Others, like Binance Futures, keep their funding rate low. This is mainly because different exchanges have different trading platform characteristics. Arbitrage is simpler for traders on exchanges that permit a seamless shift between spot and futures markets. Inefficiencies are swiftly reduced as a result.

Sources: binance

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